Critic’s short list

NEW YORK – Louis Lowenstein, a buttoned-down 81-year-old emeritus finance and law professor, is positioning himself to become the mutual fund industry’s most urbane critic. Listening to him talk about his book in progress, which he promises will uncover the “shame” of the fund industry, is like watching a man sharpen his sword to do battle with a tank. One can’t help but wish him well.

Over the last two years, Lowenstein has given speeches and written articles that parsed the performance of the industry’s largest funds and found them lacking. He found that a group of value funds run by buy-and-hold investors beat the largest funds from household-name fund companies repeatedly. The value investors he studied also avoided buying almost all the bubble-year debacle stocks. (Although one bought Nokia Corp. and sold it for a 1,900 percent profit.)

In a January paper he wrote for the Center for Law and Economic Studies at Columbia Law School, which later became an article for Barron’s, he compared 15 large-cap growth funds to 10 value funds.

The large-cap growth funds, which were chosen because they were the largest in assets at year-end 1997, had negative returns of 8.89 percent a year for the five years ending Aug. 31, 2005, a bigger drop than the 2.71 percent drop experienced by the Standard & Poor’s 500 during the same period. But the 10 value funds Lowenstein had positive returns of 9.83 percent for the period.

Lowenstein’s 10 value funds were recommended to him in 2004 by Robert D. Goldfarb, the chief of the Sequoia Fund, which itself has all the characteristics Lowenstein finds admirable in a fund. (It’s closed to new investors.)

Of the 10, six are open to new investors today: Clipper Fund, Mutual Beacon, Oak Value, Oakmark Select, Legg Mason Value and Source Capital. The fund managers at Clipper and Mutual Beacon left in 2005, and Mutual Beacon is now part of Franklin Templeton Investments.

Asked this month for funds he’d recommend, Lowenstein mentioned Fairholme, Longleaf Partners International, FPA Perennial and FPA Paramount and Oakmark Select.

Managers of these funds have “discipline, patience, long-term perspective and, for want of a better word, a sense of fiduciary duty,” he said. “They’re investing in companies, not markets.”

The funds tend to buy a limited number of stocks, making a few big bets on companies they’ve researched intensively.

“You get to know the business and the management and the balance sheet,” Lowenstein said, pointing to Bill Nygren, fund manager of Oakmark Select, who has said that he won’t hold more than 20 stocks, so investors get his 20 best ideas.

The funds eschew turnover, buying companies they like and holding on to them. Most of the funds tend to stay relatively small, closing before they get so big that their movements move the market.

Lowenstein is quick to say that his list is short, but “you don’t need many,” he said.

“It’s like picking stocks; one or two good managers are all you need.”